Macy's: Strong 1Q18 Results Indicate Turnaround Is Working

| About: Macy's Inc. (M)


Retailing is not dead: strong sales across the board, supported by external tailwinds.

New CEO Jeff Gennette's team is scoring goals with many innovative successes.

More merchandise that consumers actually want to buy.

Department store retailer Macy's (M) reported strong 1Q18 revenues and profits. A healthy consumer spending environment plus clear signs of innovative successes from new CEO Jeff Gennette's team supported the quarter's improvements. Macy's remains significantly undervalued and provides investors with a ~4% dividend along the way.

Macy's reported 1Q18 adjusted earnings of $131 million or $0.42/share compared to $38 million or $0.12/share a year ago. Adjustments included impairments and asset sale gains.

Adjusted earnings before interest, taxes, depreciation, and amortization of $468 million increased 19% compared to a year ago. The adjusted EBITDA margin of 8.21% compared to 7.15% a year ago.

Revenues of $5.54 billion increased by 3.6% from a year ago. Comparable store sales grew 3.9%. When including revenues from licensed boutiques within Macy's stores, comparable sales increased 4.2%.

Earnings per share were 20% ahead of the CapIQ consensus estimate of $0.35/share, even as the estimates had increased considerably during the quarter. Revenues were about 3% ahead of consensus estimates. The 3.9% comp store sales growth was well ahead of the 1.0% consensus expectation.

The company raised its guidance for full-year earnings by about 5.5% and its guidance for comparable store sales growth by about 1 percentage point.

Macy's shares surged 10% to close at $33.17 and have since continued their rise to above $40.

Retailing Is Not Dead: Strong Sales Across The Board, Supported By External Tailwinds…

The company reported strong sales across all segments (men's, women's, kids, shoes, jewelry, home, etc.), all divisions (Macy's, Bloomingdales, Bluemercury), in-store and digital/online, and all regions. While comp store sales were boosted by pushing the Friends & Family promotion ahead into the first quarter; even excluding this shift, the comp sales of 1.7% was healthy. Management believes that comp store sales growth will remain strong in the last half of the year.

Growth was supported by a favorable consumer spending environment. Tax cuts, strong jobs growth/employment, healthy tourism spending (up 10% from a year ago), and an overall robust economy bolstered sales. Retail spending is not dead.

And New Ceo Jeff Gennette's Team Is Scoring Goals With Many Innovative Successes

Clearly, the company is executing better. New initiatives led by new CEO Jeff Gennette seem to be bringing Macy's into the 21st century. Customers are responding by increasing their spending at Macy's.

The five key strategic initiatives - the Star Rewards loyalty program, the Backstage discount segment, the online/bricks and mortar combination selling (order online, ship directly from vendor to home), buy online/pickup in store, and the "Growth 50" emphasis on the 50 best stores - all are moving ahead with decent success. As these programs are young, the company continues to develop innovative ways to get customers to buy more from Macy's from any channel and location. Over time, what is learned in the early stages will be rolled out across the entire Macy's retail organization.

More Merchandise That Consumers Actually Want To Buy

Macy's seems to have made significant improvements in its merchant organization - the group that decides what and how much to buy. Under new leadership, this group is now smaller, faster and has both more autonomy and accountability. Customers are responding by spending more at Macy's.

From a profit and cash flow perspective, this is leading to fewer deep markdowns, faster inventory turnover, and lower operating costs. One clear measure of success: the company's gross margin increased to 39.0% of sales from 38.3% a year ago. Another measure: inventories are 5% lower even when adjusted for the lower store count.

Other Strategic-level Items

Their partnership with Chinese firm Fung Retailing Ltd. did not go well, so Macy's is terminating it. They will continue to sell on the Alibaba platform.

Debt remains above the company's targets. Surplus cash flow will continue to be directed toward debt pay down rather than share repurchases. While the net debt is not egregiously high at about 1.6x expected 2018 EBITDA (or about 2.1x gross debt/EBITDA), we fully agree with this approach. The next recession will be brutal on Macy's (and all retailers), so paring down its debt is critical to the company's ability to weather that storm whenever it may arrive. Macy's debt, net of cash, declined by $1.2 billion from a year ago as cash generation remains strong.

The $0.38/share quarterly dividend, which is producing a ~4% yield, looks sustainable.

Stock Has Been Volatile, But The Turnaround Is Working

The stock has been volatile, dropping nearly 50% from our recommended price, then more than doubling from its below-$18 close last November. Although the turnaround has taken some time, it is working. Gennette's initiatives are breathing new life into the company, supported by ongoing economic strength. The company's ability to produce profits and cash is improving. The share valuation, at under 6x, remains undervalued.

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it. I have no business relationship with any company whose stock is mentioned in this article.